According to policy leader Donald Trump, NAFTA is “the worst trade deal ever negotiated” and it needs to be renegotiated. He said, in fact, that it might even be worth the United States pulling out of NAFTA if better terms couldn’t be reached.
Why? Trump’s worried that the trade deal is taking jobs away from the American worker by allowing Americans to buy cheaper products made by lower-paid workers in countries like Mexico.
Trump’s not the only one who’s concerned. In this election year, it is hard to find anyone who’s willing to defend free trade, or free trade agreements such as NAFTA.
Before we give elected officials the discretion to renegotiate NAFTA, however, it is important to understand the unique role of the U.S. in the international economy.
The Reason Why NAFTA Exists Today
During the Great Depression, the U.S. enacted the sharpest increase in tariffs in our history, the Smoot-Hawley Tariff. The purpose of this was to discourage Americans from buying imported goods in order to encourage them to “buy American.” The hope was that this would stimulate the national economy and encourage growth.
Of course, other countries responded by increasing tariffs of their own.
The result was a decade of protectionism, resulting in collapsing world trade, and overall economic stagnation.
An Undisputable History of Success
After World War II, the U.S. and other developed countries vowed not to repeat that debacle.
The U.S., therefore, led other nations in negotiating free trade through multilateral agreements, such as the World Trade Organization (WTO), and regional free trade agreements, such as NAFTA.
As these agreements reduced tariff and non-tariff barriers, international trade expanded rapidly, accompanied by significant improvements in incomes and standards of living. Developing countries, such as Mexico, experienced the most dramatic reductions in trade barriers, and were the major beneficiaries of the new globalization.
The Main Criticism of NAFTA Today
Despite this history of success, critics of NAFTA claim that it has had a negative impact on American industry and jobs.
Let’s separate myth from reality in these attacks.
How NAFTA Has Impacted the American Worker
Rigorous economic analysis shows that trade with Canada and Mexico supports roughly 14 million U.S. jobs, and that almost five million net jobs are due to the expansion of trade generated by NAFTA. These studies also show that NAFTA has changed the mix of American jobs by creating more high-skill, high-wage jobs, and fewer low-skill, low-wage jobs.
The shift in the American job mix has significantly improved incomes and standards of living in export industries.
Now, it is true, that some industries and workers have been negatively impacted by expanded trade under NAFTA. In the U.S., the old rust belt industries, and some agricultural sectors, were negatively impacted as North American trade expanded. In Mexico, inefficient manufacturing and agricultural sectors also found it hard to compete.
But these industries were in decline even before NAFTA due to increased competition from lower cost producers in world markets.
Softening NAFTA’s Blow
One of the reasons why NAFTA has been supported over the years is that provisions of the Agreement were designed to specifically address these negative impacts.
- NAFTA provided for a transition period to allow some industries, such as agriculture, to adjust to expanded North American trade.
- Other provisions of NAFTA addressed potential negative impacts on the environment and dealt with disparities in labor laws and worker protections in the three countries. In the U.S., trade adjustment assistance was provided to American industries and workers adversely affected by NAFTA.
With shared borders and highly integrated economies, the North American countries have a common interest in maintaining free trade and capital flows. It is in their common interest to resolve conflicts, and NAFTA provides an ongoing mechanism for resolving disputes.
The presidents of the three countries meet periodically to negotiate terms of the agreement; Presidents Obama, Nieto, and Trudeau discussed a wide range of issues, including trade, energy and the environment during the recent Ottawa Summit.
Will “Brexit” Happen in North America?
While public support for NAFTA has increased in recent years, support for other regional agreements, such as the European Union, has eroded. The U.K., for instance, recently exited the European Union in the highly-anticipated “Brexit” incident, and political factions in other European countries are threatening to exit as well.
We do not, however, expect the U.S., Canada, or Mexico to exit NAFTA, and to explain this divergence in support, it is important to understand the difference between these regional agreements. NAFTA requires the three countries to surrender a limited amount of sovereignty, and NAFTA does not require agreement on other issues upon which there are greater disparities in policies, and potential for disagreement.
NAFTA vs. the EU: Monetary and Fiscal Policies
The EU has moved from the original concept of a common market toward greater economic and political integration. The common market requires a free flow of labor, as well as free trade and capital flows between member nations.
Also, the adoption of a common currency, the Euro, among some member nations requires coordination of their fiscal policies. As Milton Friedman argued, that’s easy to do if companies are at similar stages of economic development; it’s very difficult to accomplish with countries that are not. There are wide disparities between advanced and fiscally prudent countries such as Germany, and the fiscally profligate countries in the southern tier of Europe.
With continuous bailouts and threats of bankruptcy, it is difficult to see how the European monetary union will survive in its present form.
NAFTA, in contrast, focuses on free trade, and does not require agreement on monetary or fiscal policy. This is a good thing, given the different stages of economic development in Canada and the U.S. compared to Mexico.
Further, in recent years, significant disparities have emerged in the fiscal policies pursued in these countries. Canada has imposed strict fiscal rules mandating a balanced budget and reduction in the debt/GDP ratio; and, in recent years Mexico has also pursued more prudent fiscal policies. The U.S., on the other hand, has incurred deficits and accumulated debt at an unsustainable rate, and under current law will continue to do so for the foreseeable future.
With growing disparities in fiscal and monetary policies, it would be impossible for these countries to attempt to coordinate their macro-economic policies, let alone impose a monetary union.
Immigration, Labor Flows, and NAFTA
The most volatile issue within the EU in recent years is that of labor flows and immigration. The exit of Britain from the EU was triggered when then Prime Minister Cameron was unable to negotiate special provisions for labor flows and immigration from other member countries. The perception of the majority of British citizens was that they had lost control on this sensitive issue to a supranational legislature and bureaucracy.
It was this threat to their political and cultural heritage, more so than economic issues, that triggered the British exit.
As is clear in the current U.S. elections, the issue of labor flows and immigration is just as sensitive in North America as it is in Europe. Each of the North American countries has laws regarding labor flows and immigration that reflect their unique political and cultural heritage. Citizens in these countries are not about to surrender sovereignty over such sensitive issues to a supranational authority.
Fortunately, NAFTA does not require them to do so.